Mcdonalds is trying to calculate its cost of capital for use in the above capital budgeting decision. Mr. Mcdonald, has given you the following information and has asked you to compute the WACC.

The company currently has a $50 million face value bond issue that has a remaining

term to maturity of 15 years, carries a couponrate of 5% paid semi-annually, and has a current market price of $99.15 per $100 face value bond.

The common stock (500,000 shares) has a price of $98.44 per share and an expected dividend of $3.15 per share. The historical growth pattern (g) for dividends is as follows:

The preferred stock (250,000 shares) is selling at $90 per share and pays a dividend of $8.75 per share.

The corporate tax rate is 20 percent. The flotation cost is 2.50 percent before tax of the selling price for debt, preferred stock and common stock.

Required:

1.Compute the cost of capital for the individual components in the capital structure, and then calculate the weighted average cost of capital

2.Prepare brief summary to Mr. Mcdonald explaining the limitations of using a weighted average cost of capital calculated in this manner.